HEDGE

FUNDS

Dr Deepik a Upadhyay
Meaning
• Hedge funds are actively managed alternative investments that commonly use risky investment
strategies.
• Hedge fund investment requires a high minimum investment or net worth from accredited investors.
• Hedge funds charge higher fees than conventional investment funds.
• Common hedge fund strategies depend on the fund manager and include equity, fixed-income, and
event-driven goals.
 Why hedge funds?
◦ The term "hedge fund" defines this investment
instrument as the manager of the fund often
creating a hedged bet by investing a portion of
assets in the opposite direction of the fund's
focus to offset any losses in its core holdings.
◦ A hedge fund that focuses on a cyclical
sector such as travel, may invest a portion of its
assets in a non-cyclical sector such as energy,
aiming to use the returns of the non-cyclical
stocks to offset any losses in cyclical stocks.
◦ Hedge funds use riskier strategies, leverage
assets, and invest in derivatives such as options
and futures. The appeal of many hedge funds
lies in the reputation of their managers in the
closed world of hedge fund investing.
Hedge Funds
Overview
◦ Hedge funds are not private equity funds, mutual funds, ETFs, bond funds, regulated investment
companies (RICs) or real estate investment trusts (REITS).
◦ Hedge funds’ investments are more liquid than private equity funds.
◦ A hedge fund’s investment time horizons are generally much shorter than a private equity fund’s, which
generally has investment horizons of 2 to 10 years. Unlike mutual funds, hedge funds are minimally
regulated.
◦ Most hedge funds use one of the following organization structures: 1) a single entity fund, 2) a master
feeder fund, 3) a parallel fund, or 4) a fund of funds.
Categories of Hedge Funds
◦ Global Macro- Hedge funds using a global macro investing strategy take large positions in share, bond,
or currency markets in anticipation of global macroeconomic events in order to generate a risk-adjusted
return.
◦  Global macro fund managers use macroeconomic ("big picture") analysis based on global market events
and trends to identify opportunities for investment that would profit from anticipated price movements.
While global macro strategies have a large amount of flexibility (due to their ability to use leverage to
take large positions in diverse investments in multiple markets), the timing of the implementation of the
strategies is important in order to generate attractive, risk-adjusted returns.
Directional
◦ Directional investment strategies use market movements, trends, or inconsistencies when picking stocks
across a variety of markets.
◦ Computer models can be used, or fund managers will identify and select investments.
◦ These types of strategies have a greater exposure to the fluctuations of the overall market than do market
neutral strategies.
◦ Directional hedge fund strategies include US and international long/short equity hedge funds, where long
equity positions are hedged with short sales of equities or equity index options.
Event-driven
◦ Event-driven strategies concern situations in which the underlying investment opportunity and risk are
associated with an event.
◦ An event-driven investment strategy finds investment opportunities in corporate transactional events
such as consolidations, acquisitions, recapitalizations, bankruptcies, and liquidations.
◦ Managers employing such a strategy capitalize on valuation inconsistencies in the market before or after
such events, and take a position based on the predicted movement of the security or securities in
question. 
◦ Special situations are events that impact the value of a company's stock, including the restructuring of a
company or corporate transactions including spin-offs, share buy backs, security issuance/repurchase,
asset sales, or other catalyst-oriented situations.
◦ To take advantage of special situations the hedge fund manager must identify an upcoming event that
will increase or decrease the value of the company's equity and equity-related instruments.
Relative Funds
◦ Whereas most investment funds evaluate investment candidates separately, relative value funds
assess candidates by comparing their prices to those of related assets, or benchmarks.
◦ Relative value funds are typically hedge funds, which often seek to use leverage to amplify their
returns. Such funds will use margin trading to take long positions on securities they consider
undervalued, while at the same time taking short positions on related securities they consider
overvalued.
Why Hedge Funds Love Investing in Distressed Debt?

◦ They can generate massive returns in relatively short periods of time, and they can lose a great deal of
money just as quickly.
◦ What kind of e loosely defined as the obligations of companies that have filed for baninvestments can
produce such diverse returns? One such investment is distressed debt. This type of debt can bkruptcy
or are very likely to file for bankruptcy in the near future.
• Hedge funds purchase these bonds at a steep discount of their face value in the anticipation that the
company will successfully emerge from bankruptcy as a viable enterprise.
• If the failing company turns its fortunes around, the value of its bonds will increase, giving the hedge
fund an opportunity to reap substantial profits.
History of Hedge Funds
◦ Hedge funds can be traced back to 1949, when Australian journalist Alfred Winslow Jones set up a
partnership to invest in stocks using a combination of long and short positions. This was the world’s first
hedge fund and Jones became the "godfather" of the hedge fund industry. However, hedge funds weren’t
widely known until Hungarian-born financier and hedge fund manager George Soros made an
estimated $1 billion profit in a single day by short-selling the British pound in 1992. Soros became
known as "the man who broke the Bank of England” and the whole world learnt what a hedge fund was. 
◦ Today there are over 9,100 hedge funds managing nearly $3.6 trillion using diverse strategies, which
include significant capital exposure to out of favor, deep value equites, according to Hedge Fund
Research Inc (HFR). 
History of Hedge funds in India
◦ Hedge funds were introduced in 2012 by Securities and Exchange Board of India . It’s introduction was
under the SEBI (Alternative Investments Funds) Regulations 2012. It falls under Category III of AIF in
India. These funds are at a nascent stage.
◦ There are no separate taxation laws for it. They come under the taxation of AIF. This might be one reason
why the hedge fund industry hasn’t picked up pace yet when compared to the industry in the western
countries.
◦ India’s highly regulated financial market is hardly conducive to new start-up hedge funds. Despite
challenging conditions, though, India saw the launch of what may be its first market-neutral hedge fund.
Top Players
◦ Indea Capital Pte Ltd.

• Absolute India Fund (AIF)

• Fair Value

• India Deep Value Fund

• Naissance Jaipur (India) Fund

• Avatar Investment Management

• Passport India Fund

• HFG India Continuum Fund

Idiosyncratic risk
◦ Idiosyncratic risk is a type of investment risk that is endemic to an individual asset (like a particular
company's stock), a group of assets (like a particular sector), or in some cases a very specific asset class
(like collateralized mortgage obligations). Idiosyncratic risk is also referred to as a specific
risk or unsystematic risk.
◦ Therefore, the opposite of idiosyncratic risk is a systematic risk, which is the overall risk that affects all
assets, such as fluctuations in the stock market, interest rates, or the entire financial system.
Equity Hedge Funds
◦ An equity hedge fund may be global or country-specific, investing in attractive stocks while
hedging against downturns in equity markets by shorting overvalued stocks or stock
indices. 
◦ In other words, investors hedge one investment by making another. To hedge you would invest
in two securities with negative correlations and you have to pay for this type of
insurance in one form or another. As investors, we all want to trade in a market where profit
potentials are limitless and risk free.
Equity Hedge Funds Strategies
1.Long/Short Equity Strategy
2.Market Neutral Strategy
3.Merger Arbitrage Strategy
4.Convertible Arbitrage Strategy
5.Capital Structure Arbitrage Strategy
6.Fixed-Income Arbitrage Strategy
7.Event-Driven Strategy
8.Global Macro Strategy
9.Short Only Strategy
Difference between hedge funds and
other forms of investment
• Mutual Funds:
• Don't take share from the profit
• Are available to the general public
• Charge a management fee (normally 1–2%)
• Can't make high-risk investments
• Tend to perform worse than hedge funds
◦ Hedge funds:
• Take ~20% performance fee from the profit
• Are available only to high-net-worth and sophisticated investors
• Charge management fee (normally 2%) plus performance fee (normally 10–30%)
• Can make high-risk investments
• Tend to perform better than mutual funds
Pros & Cons
• Pros:
• Ultimate in diversification
• Professional management expertise
• Alleviation of risk and volatility
• Exposure to assets usually beyond small investors

• Cons:
• Additional layer of fees
• Risk of overlap in holdings
• Difficulty in finding qualified managers, funds
Funds of funds
◦ A ‘Fund Of Funds’ (FOF) is an investment strategy of holding a portfolio of other
investment funds rather than investing directly in stocks, bonds or other securities. An FOF
Scheme of a primarily invests in the units of another Mutual Fund scheme. This type of
investing is often referred to as multi-manager investment
◦ These schemes offer the investor an opportunity to diversify risk by spreading investments
across multiple funds. The underlying investments for a FoF are the units of other mutual fund
schemes either from the same mutual fund or other mutual fund houses.
◦ When you invest in a fund of funds, you get an entire diversified investment portfolio at once,
featuring broad exposure to many different asset classes with less risk involved.
Example
◦ The Barclay Fund of Funds Index, sponsored by Barclay-Hedge, a provider of data on alternative
investments, is a measure of the average return of all FOFs that report into the company database.
Through Q1 2022, for instance, 156 funds of funds had yielded an average return of 0.33% year-to-
date.
◦ Franklin Dynamic Allocation FoF, Motilal Oswal Nasdaq 100 FoF, ABSL Financial Planning FoF,
Kotak Asset Allocator, Quantum Equity FoF, among others.